Chapter 13 bankruptcy - What are the advantages and disadvantages?

Chapter 13 bankruptcy is meant for individuals willing to pay off their debts within a period of 3-5 years. Chapter 13 (also called "Wage earner's bankruptcy") helps individuals or small scale business owners retain non-exempt properties and pay back the creditors under a repayment plan. This type of bankruptcy provides you with an alternative to the liquidation process of Chapter 7 bankruptcy. If you want to know what Chapter 13 bankruptcy is all about and what are its advantages and disadvantages, glance through the topics given below:

How does Chapter 13 bankruptcy work?

Chapter 13 bankruptcy is the legal process wherein your debts are paid off under a court monitored repayment plan. Under Chapter 13 bankruptcy, the debtor with a regular source of income can pay off the debts within a period of 3-5 years.

Have a look at the following example to know about how Chapter 13 bankruptcy works.

  • Sally has 4 Credit Cards, 2 Payday loans, 2 Car loans
  • Outstanding balance on credit cards - $100,000
  • Outstanding balance on payday loans - $40,000
  • Outstanding balance on car loans - $60,000
  • So, the total outstanding balance = $200,000
  • Sally plans to file bankruptcy as it seems to be the only way out of her debt problems.
  • Sally goes through the Means Test and qualifies for Chapter 13 bankruptcy.
  • Sally receives a court monitored payment plan with which she repays the debts through small monthly installments.
  • At the end of the year, Sally is able to save around $7000.

What are the reasons to file Chapter 13 bankruptcy?

Chapter 13 bankruptcy can be filed for the following reasons:

  • If you are having problems in paying off the secured loans (such as cars or houses) and need to catch up before foreclosure or repossession.
  • It may also be appropriate if you have a tax obligation or a student loan that can not be discharged in Chapter 7. You can include these debts in the Chapter 13 repayment plan and pay them off over time.
  • If you want to retain the non exempt property.
  • If you have a co-debtor on a personal loan. Filing for Chapter 7 bankruptcy will cause a big trouble for your co-debtor (incase you have a co-debtor) on a personal debt. Your creditors will undoubtedly go after the co-debtor for payment of the debts. If you file for Chapter 13 bankruptcy, the creditor will not disturb your co-debtor for payments as long as you keep up with your repayment plan.

Who qualifies for Chapter 13?

Chapter 13 can be filed by
  • Individuals having regular income.
  • Individuals not having more than $250,000 in unsecured debt and more than $750,000 in secured debt.

What kinds of debts are discharged in Chapter 13?

DischargeableNon Dischargeable
Personal loanslong term debts such as a home mortgage
Credit cardsGovernment funded or guaranteed educational loans
Debts due to fraud, false representations, embezzlement or larcenyPayments imposed on the debtor due to criminal convictions
Certain income tax debtsDebts for alimony
Debts incurred by willful and malicious injury to another person or their property.Maintenance and support obligations
MortgageDebts incurred due to death or personal injury caused by driving as a result of intoxication or under the influence of drugs

What funds can you use to pay debts under Chapter 13?

You can use the following sources of income to pay your bills under a Chapter 13 repayment plan.
  • Any kind of wages or business profits.
  • Pension payments.
  • Social Security benefits.
  • Child support or alimony.
  • Earnings from royalties and rents.

What are the advantages of filing Chapter 13?

The advantages of filing this type of bankruptcy are given below
  • You can keep both exempt and non-exempt properties.
  • Debts that cannot be discharged by Chapter 7 can be reduced under Chapter 13.
  • Chapter 13 helps avoid wage garnishment.
  • Co-signers will be protected under this Chapter.
  • Foreclosure on a home can be delayed.
  • Chapter 13 can be filed immediately after Chapter 7 discharge to pay off any remaining liens.
  • Offers the provision under which interest rates on certain loans can be reduced.
  • Payment term on most debts can be extended under Chapter 13.

What are the disadvantages of Chapter 13?

The disadvantages of this type of bankruptcy are
  • Chapter 13 bankruptcy will appear on your credit report for 7 years.
  • Borrowing a large sum of money may be difficult as creditors may question your credibility.
  • The repayment period after Chapter 13 filing hampers your usual living standards as you're put to a rigid budget.
  • Not all debts are discharged under Chapter 13.
  • Legal fees may be higher.
  • The amount of debt you can discharge under Chapter 13 is limited.
  • Stock brokers and commodity brokers are not allowed to file a petition under Chapter 13 bankruptcy.
  • After you get a bankruptcy discharge, you can get credit only at high interest rates.
  • You need to pay extra costs like trustee's fee, attorney and court fees, etc.

Chapter 13 bankruptcy does provide you with a way out of debt but prior to filing it, you need to explore other options such as debt consolidation, settlement or debt management. Such options will help you pay your debts comfortably, so that you can avoid being harassed by creditors or collection agencies.

Last Updated on: Wed, 2 Sep 2015